April 16, 2012 at 4:32 pm
As we approach the April 17 tax filing deadline, we have highlighted the following pieces that take big-picture look at the U.S. tax system.
- We discussed how federal income taxes on middle-income families remain near historic lows.
- We examined where our federal and state taxes go.
- We pointed out the misconceptions and realities about who pays taxes.
- We showed the strikingly misleading impression of tax burdens represented by the Tax Foundation’s annual “Tax Freedom Day” report.
- We examined states that continue to tax working-poor families deeper into poverty rather than supporting their efforts to climb into the middle class.
And, finally, in our blog series Thinking About Tax Policy, we looked at the current state of the U.S. tax system and opportunities for reform.
April 16, 2012 at 2:17 pm
After decades of sharp increases in income inequality and dramatic tax cuts at the top, the case for reversing course and raising taxes at the top is overwhelming. That’s especially true given the sacrifices that policymakers will likely ask of Americans of modest means to help reduce long-term deficits. Below are three good first steps:
- Sunset the high-end Bush tax cuts. President Bush’s tax cuts are an obvious place to start. They were unaffordable from the start and are heavily tilted toward the nation’s richest people (see first graph).
Letting the Bush tax cuts aimed exclusively at people making over $250,000 expire as scheduled at year-end — thus returning the top marginal rates to those during the Clinton years — would save about $968 billion over ten years. That would pose little risk to the economy, which did quite well under the Clinton rates. As the economic expansion continues and unemployment drops, we should phase out the rest of the Bush tax cuts as well.
- Implement the Buffett Rule. The tax code should not be so easy to manipulate that millionaires can pay a smaller share of their income in federal taxes than middle-class people. But today’s tax code is: 21 percent of millionaires — about 50,000 people — pay a lower tax rate than 3 million people making between $50,000 and $100,000, according to the White House National Economic Council.
The Buffet Rule would ensure that people earning $1 million or more a year pay at least middle-class tax rates. By itself, it would raise only a small share of the extra revenue the country needs. But it would mark an important step in making the tax code fairer.
- Reform tax expenditures. Tax expenditures (tax credits, deductions, and other preferences) are expensive, costing $1.1 trillion in 2011. They’re also tilted towards the top of the income scale. The top 20 percent of tax filers received 66 percent of the benefits of tax expenditures that year (the top 1 percent alone received 24 percent of the benefits), while the bottom 20 percent of filers received only 3 percent of the benefits, according to the Urban-Brookings Tax Policy Center (see graph).
Moreover, many tax expenditures are “upside down”: they give the biggest benefits to high-income people, who are least likely to need a financial incentive to do whatever the tax incentive is designed to promote, like buy a home or save for retirement.
The home mortgage interest deduction is a prime example: high-income people in the 35 percent tax bracket save 35 cents in taxes for every dollar they pay in mortgage interest, while middle-income people in the 15 percent bracket save just 15 cents.
In addition to turning these tax expenditures right-side up, policymakers should reform one of the most top-heavy tax breaks: the current preferential tax rates for investment income, which are much lower than the rates for wage income.
In reforming tax expenditures, policymakers must use the resulting additional revenue to reduce deficits — not to regressively lower tax rates, as House Budget Committee Chairman Ryan’s plan would. As I said at the start of this series, all tax discussions need to keep our long-term deficit problem in mind.
April 13, 2012 at 2:18 pm
This series has explained why we need to raise more revenue and why it makes sense to start at the top of the income scale. The budget from House Budget Committee Chairman Paul Ryan goes in exactly the opposite direction — it would cut taxes deeply at the top and raise even less revenue than if we continued all of President Bush’s tax cuts, leading to bigger deficits and worse income inequality.
The Ryan budget would permanently extend President Bush’s tax cuts, which policymakers enacted when the federal government had a large budget surplus and which have since proven unaffordable. That would cost more than $4 trillion over the first decade alone.
Next, Chairman Ryan would dig the budget hole even deeper with new tax cuts that would cost $4.5 trillion over the first decade (according to the Urban-Brookings Tax Policy Center); he has said he would pay for them by broadening the tax base but hasn’t offered any proposals. The tax cuts would overwhelmingly flow to the richest people in the country:
- People with incomes above $1 million would receive a $265,000 average annual tax cut, on top of the $129,000 they would receive from extending the Bush tax cuts. Their after-tax incomes would rise by 12.5 percent, on average — seven times more than the 1.8 percent average gain for middle-income households.
- The top 1 percent of taxpayers — those with incomes above $630,000 — would receive 45 percent of the new tax cuts, or nearly as much as the rest of the entire population (see graph).
- Low-income working families would actually be hit with tax increases because the Ryan plan wouldn’t fully extend President Obama’s tax cuts for working-poor households. People with incomes below $10,000 would see their after-tax incomes fall by 2 percent, on average.
April 12, 2012 at 11:58 am
As this series has explained, our unsustainable budget deficits should remain in the forefront of tax policy discussions. Given the need for more revenue, it is fortunate that taxes are low both historically and compared to other countries.
So the next question is: Where should we look first for more revenue?
Trends over recent decades in both income inequality and tax policy strongly suggest that we should start at the top of the income scale. Here’s why:
- Taxes at the top have fallen dramatically. The top 1 percent of taxpayers paid an average of about 23 percent of their income in federal income taxes in 2008, IRS data show. That’s far below what they paid prior to President Bush’s tax cuts, and about a third less than they paid back in 1980 (see first graph).
- There’s real money at the top. The top 1 percent of taxpayers had a combined income of $1.7 trillion in 2008, the most recent year available, also according to IRS data. This is fully 20 percent of the nation’s total adjusted gross income — and much more than the bottom half of the population had (around 13 percent). Returning the average tax rate on the top 1 percent of taxpayers to its 1996 level of 29 percent could raise about $100 billion a year, or $1 trillion over the next decade.
By itself, of course, that wouldn’t solve the country’s long-term fiscal problems. But $1 trillion over ten years is real money and would make a real dent in the deficit.
- Higher-income people can and should share in the sacrifices needed to reduce long-term deficits. Low- and moderate-income households shouldn’t bear a disproportionate share of the burden through draconian cuts in Medicare, Medicaid, Social Security, and programs targeted on the poor and near-poor.
That’s especially true given the sharp rise in income inequality over the last four decades (see second graph).
April 11, 2012 at 11:52 am
Yesterday’s post in this series explained why the nation’s unsustainable budget deficits must be in the forefront of any tax reform discussions. That means we’ll need to raise enough additional revenue to contribute to a balanced deficit-reduction plan.
Fortunately, taxes are low right now, both historically and compared to other countries:
- Across the board, federal taxes are far lower than they were before the early 1980s, Congressional Budget Office (CBO) data show. For example, people in the middle 20 percent of the population paid 14.3 percent of their incomes in federal taxes in 2007 (the most recent year available), down from 18.6 percent in 1979. For the top 1 percent of households, the average federal tax rate fell from 37 percent to 29.5 percent over this period.
- As the chart shows, the United States is a low-tax country. Total U.S. tax revenue (including both the federal government and the states) is below all of the other wealthy “G-7” countries as a share of the economy. And it’s far below the average for members of the Organisation for Economic Co-operation and Development (OECD), which includes many less affluent countries (which tend to have lower taxes).
Moreover, higher taxes are not an inherent barrier to economic growth. CBO has found that tax increases used to reduce budget deficits can improve long-term economic growth and job creation. Claims that reasonable revenue increases will sink the economy largely reflect politics and ideology, not solid analysis — as the experience of the 1990s shows.
In short, the United States needs to raise more revenue and has room to do it.